Australia’s financial system is competitive and well regulated, but more work is required to boost superannuation competition, according to the interim report of the Financial System Inquiry, led by former Commonwealth Bank chief David Murray.

The inquiry, the first of its kind in 17 years, was kicked off by Treasurer Joe Hockey last November.

The 460-page interim report, released today, offers no direct recommendations, but instead makes observations and offers “policy options” for further consultation. More than 280 submissions were received from industry, academia and the public.

The report is the first output from the inquiry panel, which argues the financial system must satisfy three principles: efficiently allocate resources and risks, be stable and reliable, and be fair and accessible.

The panel suggests some change is required in order to boost productivity and deal with future financial crises, fiscal pressures, technology changes and global integration.

Major observations from the committee include the inconsistent regulation of payment systems, the structural impediments standing in the way of small businesses seeking finance, the lack of fee-based competition in the superannuation sector, and the entrenched perception that some banks are “too big too fail”.

The report also highlights the overly complex documents consumers of financial products are lumped with, and the role of removing conflicted remuneration or commissions in improving the quality of financial advice. It says the retirement phase of superannuation is underdeveloped and fails to meet the risk-management needs of many retirees.

It suggests while Australia’s regulators are “well-regarded”, there is room for improvement to increase their independence, transparency and accountability.

The committee also advocates for a technology-neutral approach to regulation, arguing the government is well placed to promote innovation via regulatory flexibility.

Some major options for industry reform include developing a small and medium-sized business finance database for lenders and borrowers, considering auctions for default superannuation fund status, ring-fencing critical bank functions (such as retail banking), improving disclosure requirements to enhance consumer understanding - with more powers for ASIC to intervene or ban products, raising minimum education and competency standards for advisers on more complex products (such as self-managed super funds), renaming general advice as “sales” or “product information”, mandating the use of particular retirement income products, and allowing payment scheme providers to reintroduce “no surcharge” rules.

Other options presented include government support for the securitisation market to help boost the competitiveness of smaller banks, and enhancing the role of the Council of Financial Regulators, to improve coordination and co-operation between regulators.

The final report of the committee is due in November.

Our panel of experts respond below.

Michael Peters, Lecturer at the Australian School of Business

The long-awaited Murray interim report highlights concerns as to competition in the banking sector, fee-based competition in the financial planning sector, the use of technology and access to the sector.

The big four banks dominate banking, the financial planners are on good earners picking up the fees as we all rush towards self-managed superannuation and the mortgage pressure faced by many seems here to stay with clear impact on the sector’s long-term performance and risk appetite.

It’s an expensive and yet thorough exercise into what has been known for a long time, and yet governments of both persuasions seem to be shy to tackle the elephant in the room.

The big four dominate to the extent that they are too big to fail, as illustrated by the previous government’s rush to their call for a deposit guarantee. They are so big that they will simple shift their dominance from banking to anything else just like we are seeing in the supermarket sector.

The report does outline the impact technology is having and will have on the sector to the extent that physical money will disappear over time.

Perhaps Google or Apple can enter the sector and provide alternative suppliers, since traditional competitive forces have been less successful. Perhaps regulation could encourage this move. Don’t put money on it.

The entrenched interests will prevail. The report does not examine the fact that the banking sector accounts for well over 50% of all profits from ASX-listed corporations. The economy is dominated by these players, but there was no clear indication what this means for the health of economy to rely on such concentration.

Fee-based or even diversity of offerings from the financial planning/retail sector is of great concern.

Today this sector accounts for more cash than the total savings held by all deposit-taking institutions.

True reform will need to deal with this sector as we had dealt with the banking sector prior to the global financial crisis. It will require much political will to tame the merchant banks and other financial product factories and their legions of advisers, planners and resellers.

It appears the value given to deposit holders and customers in general is of concern. However, the inquiry’s thoughts are elsewhere on protecting all Australians from mortgage stress and its impact on the sector’s performance in the long term.

For those seeking the reforms of the 1980s, chances are, don’t bank on it yet.

Rodney Maddock, Vice-Chancellor’s Fellow at Victoria University and Adjunct Professor of Economics at Monash university

The inquiry’s interim report is amazingly sensible. They’ve essentially said competition is not the central issue, and instead small business, payments and wealth are, as well as how money is channelled through the superannuation system.

Instead of focusing on mortgages all the time, they also seem to be suggesting that it’s far more important for productivity that we have money flowing to people who want to innovate and build businesses. It’s not clear the inquiry committee has got any solutions, but it’s clear they’re asking the right questions.

The data discussion is also interesting. There are quite a few important issues where they haven’t decided what to think. How to trade off new business models against data protection is one area where they have not decided what to do.

On the issue of “too big to fail” the discussion is good. Rather than impose extra taxes on people, the committee is suggesting we should take away the assumption that government will support institutions if they fail. That applies to both big and small institutions.

On wealth, the debate is about whether when you walk into a bank you are buying a hamburger or establishing a fiduciary relationship. The ability to buy bank products from people in bank branches and in bank uniforms makes sense, but this is quite separate from being advised about how to run our personal finance. We have to make a distinction between the hamburger and the financial advice - to distinguish general advice as not being advice in that sense.

On the regulatory front I’d prefer to have macro prudential policy run by the RBA and that being really clear, rather than having the Council of Financial Regulators resolving disputes between APRA and the RBA. It seems to me that the committee risks weakening the RBA by sharing responsibility.

I am still not convinced they have regulation right. There are different ways you can do financial transactions - one is through markets, the other is institutions. At the moment they’re regulated by different people so boosting the council might be one way of solving that problem as institutions become less important and markets become more important. But whether that is the best solution is again unclear.

Jerry Parwada, Head of School of Banking and Finance, UNSW

The inquiry’s report calls attention to the fact that the whole wealth-management industry needs a bird’s eye view. We need to carefully sift through the issues as a collective, not on a piecemeal basis.

Given the report acknowledges there are outstanding questions that still need to be answered, then it’s tricky for anybody to go ahead with any legislative or regulatory changes before the conclusion of the inquiry. They touch on FOFA reforms and say it is too early to assess the effect of these reforms on competition. So if it’s too early to assess the effects, then why should we be changing them?

There’s a strong link between competition in the industry and fees - whether we’re looking at retail investment advice in general or super advice - and the competitive framework in the whole industry needs to be looked at carefully.

The policy makers, regulators and the market need to ask the question: is it going to be beneficial for an industry that has been identified by the inquiry as having high fees which are sustained by the current competitive model to keep that model forever?

The inquiry makes it very clear the competitive model had been driven by consolidation in the industry, so 80% of the financial advice industry is now linked with banks. The differentiation that’s taking place now is at the product level and in terms of distribution but not at the fee level, and yet access to financial planning services is very fee sensitive. That’s the main concern.

All the research we have done shows that there’s limited value to be obtained from active management. It just raises fees for one segment of the market and more index-like products will benefit the market.

Recent research in the US showed that when fund managers offer investment services directly to clients there is value added, but when the investment advice is intermediated by brokers there is value destruction. If we abstract from that research into the Australian market we need to look at options that rely less on intermediation and more on a default index-type arrangement.

I think the financial system inquiry is well within its rights to at least carefully consider the type of Chinese walls that exist in investment banking.

We need to think about separating banking from distribution or financial planning advice in terms of ownership and control. This is not a popular sentiment but the Commonwealth Bank debacle of recent weeks clearly demonstrates this is not a left-field idea that just comes from academics.

We can argue for the need to cut red tape and simplify regulation, but similarly you would be hard pressed to find a financial planning group or outfit that has gone out of business because of FOFA regulations. You can trace millions of dollars of losses to investors who have been poorly handled in this increasingly concentrated industry. We need to separate emotive issues from what’s best for the safety of the industry.